Regulatory analysis

Marketing to EU investors

Post-Brexit there continue to be significant regulatory hurdles to setting up a UK Fund which looks to market to investors in the EU. Marketing under the EU Alternative Investment Managers Directive 2011/61/EU (AIFMD) covers any direct or indirect offering or placement at the initiative of the Alternative Investment Fund Manager (AIFM) or on behalf of the AIFM, of units or shares in a fund it manages to or with investors domiciled in the EU.

UK Alternative Investment Funds (AIFs) and AIFMs have, as a result of Brexit, lost access to the current marketing and management passport under AIFMD. Although it is hoped that a further agreement will be reached with the EU granting equivalence to UK AIFMs, under current rules, to gain access to EEA markets post-Brexit, there are two main ways for UK AIFMs to market to EU investors: via the National Private Placement Regime (NPPR) or to rely on ‘reverse solicitation’.

The NPPR is a mechanism to allow AIFMs to market AIFs that are not allowed to be marketed under the AIFMD domestic marketing or passporting regimes. This principally relates to the marketing of non-EU AIFs and AIFs managed by non-EU AIFMs (such as UK-based AIFMs). Not every EU country has an NPPR and participation in a NPPR is usually subject to local regulatory approval/registration, as well as the payment of fees and meeting ongoing reporting obligations.

‘Reverse solicitation’ requires the EEA investor to approach the UK AIFM without any prior communications from the UK AIFM. For example, where an EEA investor has an existing relationship with a UK AIFM (having invested with them in the past) and the investor approaches the UK AIFM at their sole initiative with the intention to invest. European authorities, including the European Securities & Markets Authority (ESMA), have been focused on ensuring that the reverse solicitation exclusion is being used appropriately and are expected to increasingly challenge poor practice when they detect it. In addition, further consideration needs to be given to whether reverse solicitation would in any event satisfy the ownership condition for a qualifying fund which must satisfy a number of “genuine diversity of ownership conditions” in order to obtain the tax benefits for QAHC (see Eligibility Criteria above further).

Relying on the NPPR or reverse solicitation therefore poses a significant challenge to UK AIFMs seeking to market to EEA investors. In practice, a Fund manager looking to market to EU investors would usually establish their own EU AIFM, or use the services of an already authorised EU AIFM or authorised distribution agent.

Marketing to UK investors

A UK AIFM would apply to the FCA to obtain the required authorisations to market the Fund to UK investors.

As a result of Brexit, the lack of passporting rights to UK AIFMs to market to investors in the EU, has meant that the UK government has afforded EU AIFMs reciprocal treatment, such that EU AIFMs cannot market to UK investors without obtaining required UK authorisation.

An AIFM looking to market to both UK and EU investors could decide to be dual-authorised in both the EEA and in the UK. However, this requires the AIFM to be subject to dual regulatory reporting obligations as well a doubling of compliance costs going forward. Only the largest and most sophisticated fund managers will be prepared to tolerate this approach.

EU Fund managers seeking to raise funds from UK professional investors do, however, have the option of participating in the UK’s Private Placement Regime going forward but participation in the UK NPPR comes with its own costs and reporting obligations in the UK. For example, AIFMs that wish to market above-threshold third country AIFs to professional investors in the UK must pay a £250 fee per AIF and meet the AIFMD regulatory responsibilities of AIFMs associated with investor information, annual reporting and reporting to the FCA. In practice, non-retail Funds marketing to UK professional investors, would tend to use the UK’s Private Placement Regime, and this would allow an EU AIFM to market to UK professional investors.

Conclusion

A UK AIFM looking to market to a large number of EU investors, across a number of EU member states would find it very burdensome from a compliance perspective and expensive to rely on the differing NPPRs, and extremely difficult in practice to be able to benefit from ‘reverse solicitation’, especially noting that the European Securities & Markets Authority is looking at this exclusion very closely. Therefore, a Fund marketing to EU investors would need to use an EU AIFM from a regulatory perspective. An EU AIFM would generally market to UK investors through the UK’s Private Placement Regime or on a reverse solicitation basis.

In very general terms, the benefits of seeking UK AIFM authorisation as opposed to EU AIFM authorisation for smaller fund managers will therefore tend be limited to those selected managers only seeking to raise investment funds from UK investors (and other investors globally) and with very limited EU investors.